The main objectives of the
Merger Directive

On 23 July 1990 the Council adopted
Directive 90/434/EEC on
a common system of taxation applicable to mergers, divisions,
transfers of assets and exchanges of shares concerning companies of
different Member States (the Merger Directive). The objective of the
Merger Directive is to remove
fiscal obstacles to cross-border reorganisations involving companies situated in two or more
Member States. The Merger Directive includes a list of the legal
forms to which it applies. The companies must be subject to
corporate tax, without being exempted, and resident for tax purposes
in a Member State.

In the case of mergers and divisions, the
transferring company transfers assets and liabilities to one or more
receiving companies. The Merger Directive provides for deferral of the taxes that could be charged on the difference
between the real value of such assets and liabilities and their
value for tax purposes. The deferral is granted provided that the
receiving company continues with their tax values and effectively
connects them to its own permanent establishment in the Member State
of the transferring company. These rules apply to transfer of assets
where the assets transferred form a branch of activity. The Merger
Directive covers also triangular cases where the transaction
includes a permanent establishment of the transferring company
situated in a different Member State.

The exchange of shares is a transaction where a
company acquires a holding majority in the capital of the acquired
company. It transfers in exchange its own shares to the shareholders
of the latter company.

In all these transactions, the Merger Directive
provides for tax deferral of the taxes that could be charged on the
income or capital gains derived by the shareholders of the
transferring or the acquired company from the exchange of such
shares for shares in the receiving or the acquiring company.

Directive 2005/19/EC
amending the Merger Directive

On 17 October 2003 the Commission adopted a
proposal (COM(2003)
613) amending Council Directive
90/434/EEC on a common system of taxation applicable to mergers,
divisions, transfer of assets and exchanges of shares concerning
companies of different Member States (see press release IP/03/1418),
which was subsequently adopted after negotiations by Council on 17
February 2005 , as Directive 2005/19/EC
(see press release IP/05/193and Official Journal L 58, p. 19
of 4 March 2005 ). See also the press release issued at the time of
political agreement on the modified version (IP/04/1446).

The main amendments introduced by
Directive 2005/19/EC are the following:

The current list of companies covered by the
Merger Directive contains entities that are subject to corporate
tax in their Member States of residence. However, in the case of
some of the new entities that have been added to the list other
Member States simultaneously tax their resident taxpayers which
have an interest in those entities, so-called 'transparent
entities'. The same tax situation can also apply to the
shareholders of companies entering into the transactions covered
by the Directive. Directive 2005/19/EC introduces specific
provisions (new Articles 4(2) and 8(3)) to ensure that the
benefits of the Merger Directive are available even in these
cases, subject to certain exceptions which are set out in the
new Article 10a.

The coverage of a new type of transactions:
a special division known as a "split off ", named in the
Directive as partial division (new Article 2(b)(a)). The
splitting company is not dissolved and continues to exist. It
transfers part of its assets and liabilities, constituting one
or more branches of activity, to another company. In exchange,
the receiving company issues securities representing its capital.
These securities are transferred to the shareholders of the
transferring company.

The directive provides for capital gains
exemption when the receiving company holds shares in the
transferring company. The holding threshold required to enjoy
this exemption has been modified by the Directive 2005/19 to
align it with that of the Parent-Subsidiary Directive. This
threshold will be lowered in stages from 25% to 10% (Article
7(2)), in line with the amendments to the Parent-Subsidiary
Directive introduced by Council Directive 2003/123/EC.

The Directive introduces rules
governing the transfer of the registered office of the European
Company (SE). The title of the Merger Directive is modified to
include a reference to this operation (Article 1) and the latter
is defined in the text of the Directive (Article 2(j)).
The applicable tax regime is found under a new Title IVb,
Articles 10b to 10d: the SE transferring its registered office
will enjoy tax deferral on capital gains where its assets remain
connected with a permanent establishment situated in the Member
State from which it is moving. The shareholders of the SE should
not be liable to tax on this occasion.

Transfer pricing in the EU context

Transfer pricing refers to the
terms and conditions surrounding transactions within a
multi-national company. It concerns the prices charged
between associated enterprises established in different
countries for their inter-company transactions, i.e.
transfer of goods and services. Since the prices are set by
non independent associates within the multi-national, it may
be the prices do not reflect an independent market price.
This is a major concern for tax authorities who worry that
multi-national entities may set transfer prices on
cross-border transactions to reduce taxable profits in their
jurisdiction. This has led to the rise of transfer pricing
regulations and enforcement, making transfer pricing a
major tax compliance
issue.

Background

According to international standards
individual group members of a multi-national enterprise must
be taxed on the basis that they act at arm's length in their
dealings with each other. This arm's length principle is
found in article 9 of the OECD Model Tax Convention:

"[When] conditions are made or imposed
between ... two [associated] enterprises in their commercial
or financial relations which differ from those which would
be made between independent enterprises, then any profits
which would, but for those conditions, have accrued to one
of the enterprises, but, by reason of those conditions, have
not so accrued, may be included in the profits of that
enterprise and taxed accordingly."

In The Company Tax Study (SEC(2001)
1681(pdf
2.0 MB)(2.0
MB)),
the Commission identified the increasing importance of
transfer pricing tax problems as an Internal Market issue:
although all Member States apply and recognise the merits of
the OECD "Transfer Pricing Guidelines for Multinational
Enterprises and Tax Administrations", the different
interpretations given to these Guidelines often give rise to
cross border disputes which are detrimental to the smooth
functioning of the Internal Market and which create
additional costs both for business and national tax
administrations.